Q 4.) Prepare Wellington's funds flow statement and then explain why the company encountered an increasingly strained working capital position.
Case Study 1 RATIO ANALYSIS WELLINGTON AIRLINES Melissa Myers is the new treasurer of Wellington Airlines, She graduated from a major niversity in Delaware with a M.B.A. in Finance. After five years of experience with one of the big eight" CPA firms in New York, she joined the accounting staff of Midwest Airlines and served in a variety of accounting and finance positions for ten years. She sumed the position of treasurer at Wellington Airlines on May 3, 1986. One of her first sponsibilities is to analyze the company's financial condition shortly after the airline's al year, which ended on June 30, 1986. Exhibit 1 Wellington Airlines Balance Sheets as of June 30, 1985-1986 (in millions of dollars) Cash Accounts receivable Maintenance and supplies inventory Total current assets Gross plant and equipment Less: accumulated depreciation Net plant and equipment 1985 $42 182 196 $420 1986 $42 140 210 $392 2,072 784 1.288 1,680 700 Total assets 980 $1,400 $1,680 Accounts payable Notes payable Accruals $63 S76 84 280 Total current liabilities 28 $175 Long-term debt Common stock 50 $406 280 273 Retained earnings 280 280 714 $1,680 672 $1,400 Total liabilities and net worth 387 OTSEGO RESORT PART 2: CASE STUDIES 388 Wellington, Angeles, Cali ered severe cy ind the airline ind The failure of industry beca controllers' sto had resulted ir for the airline 1979 (see Exhit phased out by the end of 1985. aging e encountered d substantial Melissa Myers has seen major changes in the airline industry since Congress enacted the Air Transportation Regulatory Reform Act (ATRRA) in 1978. The ATRRA, an amend ment to the Federal Aviation Act of 1958, deregulated the airline industry significantly airlines into the marketplace. Before 1978, the Civil Aeronautics Board (CAB) had tego This law, among other things, increased competition and facilitated the entry often lated fares and authorized routes for airlines. Under the 1978 legislation, the CAB wa the industry because management felt such a move would facilitate growth. Wellington Wellington Airlines added several cities to its routes shortly after the deregulation of purchased a number of new airplanes to meet its expanded routes and replaced airplanes. These new airplanes were mostly financed by short-term bank loans to be paid fare and route competition from other trunk carriers. The industry's deregulation in from profits generated by the expansion. However, the airline en regional carriers, free of such cumbersome overhead, were able to offer lower fans 1978 caught Wellington with huge fixed costs and expensive labor agreements. Newer downturn depressed passenger traffic, thereby causing a glut of airline capacity profitably, but Wellington's ability to do so was strained. Furthermore, the economic Exhibit 2 Wellington Airlines Income Statement for Year Ended June 30, 1986 (in millions of dollars) Operation revenues to Passengers $1,830 Freight 95 Other 35 Total revenues $1,960 1 P Re RE 662 212 Operation expenses Flying operations Maintenance Equipment and passenger services Promotion and sales General and administrative Depreciation Total operating expenses 1. Calculate for Welling 2. What wou million cas pen to net 523 209 *** 52 84 inventory i 3. List and dis 4. Prepare We encountered 5. Discuss hov 1742 $218 Operating income 59 Interest expense $180 1. Go to http:/ various infor SV Earnings before tax Tax Earning after tax $80 Case Study 1: Ratio Analysis enacted the an 389 significado entry of new B) had regu- he CAB was We airline the Wellington, one of the largest airlines in the United States, is headquartered in Los Angeles, California. Since its establishment in 1917, the company has successfully weathe and severe cyclical fluctuations characteristic of the airline industry. But as with rest of its sales and profitability for the last few years severely declined. e industry, The failure of Braniff Airlines reflected the serious problems facing the entire airline of business slowdowns, deregulation of the industry, the air traffic because ulers strike, higher fuel costs, and intensified competition. Expanding operations had nesulted in an increasingly strained working capital position for Wellington. Profits the airline had dropped considerably since its expansion program started early in 1979 (see Exhibits 1, 2 and 3). regulation of . Wellington laced aging ns to be paid Exhibit 3 Industry Average Ratios substantial regulation in ments. Newer lower fares the economic Ratios apacity. Current ratio Quick ratio Average collection period Asset turnover Debt ratio Times interest earned Profit margin on sales Return on investment Return on net worth Industry 3.5 times 1.50 times 30.0 days 1.20 times 45.0 percent 4.10 times 4.00 percent 4.80 percent 8.73 percent 50 QUESTIONS 1. Calculate the appropriate ratios of liquidity, leverage, activity, and profitability for Wellington 2 What would happen to net working capital if Wellington Airlines used $10 million cash to pay off $10 million long-term debt in 1986? What would hap- pen to net working capital if Wellington Airlines used $10 million cash to buy inventory in 1986 Listand discuss cautions which must be taken in using industry average ratios, Prepare Wellington's funds flow statement and then explain why the company 5. Discuss how to solve the airline's most pressing problems. encountered an increasingly strained working capital position. 42 18 58 60 80 Internet Questions 1. Co to http://finance.yahoo.com. Enter ticker symbol DAL, and you will find various information about Delta Airlines Inc. 80
